I am often asked to provide my list of property hotspots, with a view to assisting property investors to buy their first, or next, property investment. There are many problems with doing so, however. Apart from the fact that I don’t have a crystal ball, and I could be wrong, the bigger problem is that I can’t always be here to tell you where to buy. And so, if being a property investor is your goal, then the best thing I can do for you is to teach you how to be one!
Over the coming months I’ll be writing various articles which will guide you on your journey. These articles will teach you what you need to know to safely head out and choose where you would like to buy next. You’ll see as you come on the journey that it is far more complex than just seeing that nice place down the road, having a gut feel it will rent well, then buying it. In all the stories I have ever heard of property investments gone wrong, the common thread is that the research was never done in the first place.
But, before we get to understanding more about where you should be buying, let’s kick off this first instalment with important information about what you should be seeking from your investment in terms of how it performs financially.
1. Capital Growth
Investors seeking high capital gain will typically invest in areas which may be about to experience unprecedented growth. For example, if you were to consider that the Sydney market has now become almost impossible for first home buyers to enter, then its reasonable to expect demand to ripple to adjacent regional areas. Those areas with an existing infrastructure which can manage population growth would be the first to experience gain, such as areas with comprehensive transport linking it to the city, sufficient schooling, shopping and other services usually in demand by young families. Since capital growth is directly linked to supply and demand, then it is certainly feasible to expect that demand will grow in these areas, possibly faster than supply.
2. Cash flow
When an investor seeks cash flow in the potential properties they are considering, this means that they seek out property which will not cost them money from their own pockets. To achieve this, one of two things must happen. Either the property must have a higher than average rent return for its purchase price, making the rent enough to cover all expenses including loan interest, even where the property is fully geared (purchased with borrowing). Or, the property has a large amount of on paper deductions, resulting in some of the tax payer’s dollars being returned in deference to the on-paper loss made. This ‘tax back’, when added to the rent, will often be more than is needed to pay all of the expenses (including loan interest) and the result is money left over – positive cash flow.
Contrary to popular belief, property such as this does exist in high growth areas. Typically, a property which is ‘positively geared’ (that is, raw rent returns greater than expenses without needing any on paper deductions) will be found in large regional areas all over Australia – areas with an abundant economy, low job vacancy rates and low unemployment. These areas have usually enjoyed normal inflation of rent returns but lower than average capital gain, usually because demand and supply remain fairly equal most of the time. Where typical rent return in a capital city is less than .1% of the purchase price as a weekly rent (so a $200,000 property would return around $200 a week), these low growth/high return areas can return upwards of .13% and more.
The benefit to investors for purchasing property for cash flow is the fact that there may be less limitation on the actual number of properties an investor can acquire – if there is not a personal cash input required then an investor will only be limited by their borrowing power and, to some extent, to the equity in existing property. They will not ‘hit the wall’ in terms of how much they can afford to personally contribute to the investment portfolio
Which should you choose?
So, which is best? Should you be investing for possible gain? Or should you be seeking out positive cash flow property? The answer to this question depends very much on your own personal financial circumstances,
Where an investor buys for cash flow, it is usually because they lack the ability to meet any losses each week on property, no matter how small the commitment or how great the promise of good capital gain. Buying for cash flow usually allows an investor the opportunity to buy more properties, although this can be limited by equity if all of the properties chosen deliver lower than average capital growth, and the investor had low equity to begin with. It suits investors who may already have significant property equity, but little in the way of excess personal cash flow each week.
If you buy for growth, it is usually because you can afford to support the negative cash flow on a property, and you need to get a growth in your asset base quickly. It suits investors who may have higher incomes, but have yet to build property equity.
So, which is better?
Never fall in to the trap of thinking that one method is more right than the other. It’s more about who you are and what you want, than it is about what is right or wrong. It is important to be very clear about what you want to achieve for your own future and to determine your own personal risk profile. The method you choose when investing in property should relate to your own personal needs for income and profits, rather than what your best mate is doing or what any property expert may espouse to you.